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Yesterday I was chatting to my gran, who told me about her first trip into town in approximately six months. She said: “Everyone was acting like normal. It was so weird.”
Overcoming this paradox and ensuring that the slow return to normality feels, well, normal, is imperative to the success of Diageo, whose preliminary results today revealed the extent to which the pandemic has affected even our most-entrenched drinking habits.
The company is one of the world’s largest producers of spirits and beers, with brands including Smirnoff and Guinness, and has long been a darling staple of funds like Liontrust UK Growth, with managers drawn to its defensive qualities, well-known brands, and attention to dividend yields.
However, global lockdowns have hit the company hard. Today’s results revealed that reported operating profit for the year to the end of June plunged 47.1% to £2.1 billion, while net sales fell 8.7% to £11.8 billion.
The results also showed how Diageo’s global brands and different target markets are exhibiting widely varying consumer responses. The company’s prolonged success will depend, in large part, on how it adapts the two key tenets of its sales - the ‘on-trade’ in licensed venues, and the ‘off-trade’ from supermarket shelves - to these different circumstances.
Old habits die hard
Unsurprisingly, regions where consumption is primarily driven by the on-trade have seen sales hit hardest. In Europe, around half of the company’s sales were on-trade and, subsequently, net sales across the region fell by 12%.
The picture is even worse in Asia, where sales fell by 16%. India experienced a 6-week ban on all alcohol consumption, while in China, where drinking is primarily fuelled by social occasions, demand was stalled by unusually subdued New Year festivities.
The story is quite different, however, across the pond. In the US, where only around 20% of sales come from the on-trade, sales actually rose by 2%.
Perhaps we can relate to the US’s increased home consumption. At the start of lockdown, news images suggested that all people needed to survive were toilet roll and alcohol. Even with pubs and restaurants closed, many of us have seen our daily intake increase. Research into people’s drinking habits over the pandemic conducted by Alcohol Change UK in April found that around one in five drinkers (21%) have been drinking more frequently since the lockdown started, and 15% have been drinking more per session.1
Furthermore, the company’s ‘prestige’ market has remained relatively resilient over the crisis, as consumers have proven willing to treat themselves to premium products with the savings they’ve accrued over lockdown.
The dichotomy here leaves the on-trade on shaky foundations. Many of us have longed for a first ‘proper’ pint back after lockdown, but once we have wet our whistles, there’s certainly no assurance that people will rush back to pubs and bars.
Diageo’s capacity to adapt, both to the immediate circumstances and to consumer habits going forward, will play a large part in restoring its prolonged success.
Glass half full or empty for investors?
Despite a severe fall in sales, Diageo was still able to announce a final dividend payment, bringing full year dividend growth to 2% - welcome news to income investors as BP announced cuts to its dividend this morning.
Its chief executive, Ivan Menezes, said: ‘“The actions we have taken to strengthen Diageo over the last six years provide a solid foundation to respond to the impacts of the pandemic. We are now a more agile, efficient and effective business. We have taken decisive action through the second half of financial year 2020, tightly managing our costs, reducing discretionary expenditure and reallocating resources across the group.”
Now more than ever, the key for investors is to focus on company fundamentals across the board. Identifying companies with good cash balances, proven management experience in sensible risk-taking, and reliable, diversified revenue streams is paramount if we’re to manage the volatility to come.
Menezes will certainly hope that the breadth of Diageo’s portfolio, coupled with its cost-sensitive approach, will put his company in a strong position to recover from its results today or at least address the on and off-trade balance.
That said, I’m not sure my gran will be convinced to venture out any time soon.
More on Diageo
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Overseas investments will be affected by movements in currency exchange rates. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.
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